Calm

After years of capital flight, deteriorating economic policy conditions and high political risk, all is now relatively quiet in the emerging markets. President Trump’s protectionist ambitions seemed to throw a spanner in the works for a while, but this risk has largely disappeared as well. Since the beginning of the year, emerging markets have been attracting record inflows of new capital, and both bonds and equities are performing well. Clearly there are considerations too, such as the investment climate in Erdogan’s Turkey or the increasing risks of policy slippage in South Africa, but these problems are not cross-border or, in themselves, symptomatic of a broader emerging market trend.

There are three distinct differences between current circumstances and those between 2010-2015, when the volatility in emerging markets was high and prices mostly dropped. First: China. For now, the Chinese authorities have managed to stop the most serious capital outflows and stabilise economic growth. The importance for emerging markets can hardly be overestimated. For most emerging countries, China is the main trading partner, and the impact of Chinese demand on commodity prices is particularly relevant in this context. When the renminbi started to weaken in 2015 and investors began to worry about the sustainability of China’s credit-driven growth model, pressure on emerging markets increased dramatically. China seems to be less of a risk to the emerging world now. This risk could be reduced further if the authorities continue their recent policy of strongly regulating the shadow-banking lending. It is too early to say that China’s systemic risk has become manageable or that Chinese economic growth is becoming less dependent on credit. However, we cannot just ignore that the Beijing government is moving in the right direction.

The second difference is the reform momentum in the emerging world. It is not like we suddenly see major reforms in many countries, but current conditions are better than in the years after 2010, when there was a clear negative trend towards a more interventionist economic policy with rapidly rising budget deficits. At the moment Turkey is one of the few countries where we see some deterioration. At least five countries (Argentina, Brazil, Egypt, India, and Indonesia) are currently pursuing an aspiring reform policy. Consequently, imbalances are getting smaller and growth prospects are improving: not only in these five countries, but also in the emerging world as a whole.

The third and most tangible difference is the improving growth momentum. Economic growth in the emerging world is still low (4.5%) compared to the golden years before the Lehman crisis, but the figures have been improving for over a year now. As long as this positive trend continues – which is quite possible given the increasing world trade growth and improved capital flows – it is likely that all will remain relatively calm in the emerging world.

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